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What Happens If Your Brokerage Goes Bankrupt?

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E-Trade Financial took a huge hit to their stock price today (50% haircut!) on word that they will be taking huge write downs because of their investment in securities backed by home loans. In fact, a Citi Investment Research analyst covering E-Trade downgraded it to a “Sell” from a “Hold,” adding that there’s a 15% chance E-Trade would go bankrupt. So what happens and what can you do if your brokerage goes bankrupt?

First off, you only have any protection if your brokerage has SIPC insurance. SIPC stands for U.S. Securities Investor Protection Corporation and it’s a federally chartered private corporation insuring shareholders against a stock-broker going bankrupt. It’s similar (but not exactly like) to FDIC and NCUA insurance for deposit accounts but covers against bankruptcy and not issues like fraud. If your brokerage is a member of the National Association of Security Dealers (NASD) FINRA (Financial Industry Regulatory Authority), then you will have SIPC insurance because the FINRA requires it. I personally would never use a brokerage that wasn’t in the FINRA because there’s simply no reason for it. The SIPC will cover you for $100,000 cash and $500,000 total (stocks and bonds, not futures, options, currency, etc.) but the brokerage itself may have supplemental insurance that goes beyond that.

So, what do you do? If your brokerage is liquidated, the court-appointed trustee will send you a claim form to fill out and send back. The turn around time is estimated at one to three months according to the SIPC website and that’s if you qualify (most do, there are some exceptions on that) and do it within the deadlines. Lastly, make sure you have good records with your statements so you can get your stuff back in a timely fashion. It’s not unheard of for a brokerage to have bad records so having your own helps the process.

Now with ETrade specifically, they claim to have SIPC coverage and you can confirm this by searching for “E*TRADE Securities LLC” in the SIPC lookup database. The search is very fickle, you have to type the whole name or it won’t find it (Etrade, Etrade financial, etc. all give no result).

Unless I’m missing something, it sounds like those folks who have investments through ETrade are covered by the SIPC. Those investing in ETrade are a different matter… whew, 50% is hard to take.

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9 Responses to “What Happens If Your Brokerage Goes Bankrupt?”

  1. grant says:

    NASD no longer exists. It’s now called FINRA.

    “Created in July 2007 through the consolidation of NASD and the member regulation, enforcement and arbitration functions of the New York Stock Exchange, FINRA is dedicated to investor protection and market integrity through effective and efficient regulation and complementary compliance and technology-based services.”

    http://www.finra.org/AboutFINRA/CorporateInformation/index.htm

  2. jim says:

    Wow, I had no idea they changed it, thanks grant!

  3. JohnnyB says:

    My suggestion – if you have money at Etrade get out now. Don’t forget that some cash accounts like money markets or CD’s if owned by Etrade would not fall under SIPC but rather FDIC. Who the heck would want to stand in line to get money from either SIPC or FDIC? My advice – panic before anyone else does and get out. Just no reason to keep money there. Claim forms, 3 months HA!

  4. Realistically, E*Trade is VERY unlikely to go bankrupt. At the very least it will take a few more writeoffs and investors who keep on buying their stock through this ordeal will make a bundle by taking advantage of other panicky investors. At the most (and actually rather likely), E*Trade will be acquired by a large financial institution or another brokerage firm. Bank of America (read its stock analysis) has taken advantage of such market conditions by making an investment in the Countrywide Financial on very favorable terms to BAC.

  5. IWDog says:

    While SIPC covers situations in which brokerage firms go bankrupt and customer securities and cash disappear, as a practical matter, unless E*Trade’s records are really messed up, investors would simply transfer their positions to another brokerage firm. Cash balances must be held in accounts separate from the firm’s operating account, so they likely will not be impacted and can be transferred away as well. The biggest inconvenience in a SIPC action is usually not having access to your securities during the pendency of the SIPC process.

    We all remember Enron and Worldcom, though. When the securities industry is the topic, nothing is beyond possibility. Maybe E*Trade’s records are that bad, and maybe they have misused customer’s cash deposits. Don’t write it off as unbelievable. I saw it often at the SEC.

    The NASD changed its name to FINRA after acquiring the enforcement division of the New York Stock Exchange. The Financial Planners Association challenged the NASD’s right to claim a name that implies more than it delivers. FINRA stands for the Financial Industry Regulatory Authority. The Financial Planners have a point. National Association of Securities Dealers was a more accurate name. The NASD (now FINRA) is a trade group for brokerage firms. Investors should not rely upon FINRA to protect them. Their enforcement actions are always backward looking. e.i. by the time FINRA hits the scene, the money is already gone.

  6. MoneyNing says:

    I invest in AND through ETrade. It wasn’t easy even with today’s 40% gain :)

  7. jim says:

    If you had it two days ago, a 50% drop and then a 40% gain means you’re still down 30%, how happy can you be?

  8. CfiziksH says:

    In what form do you receive your assets in from SIPC insurance? Do you keep shares of the stocks, bonds, mutual funds, or are they sold and given to you as cash? If they’re sold, how is the selling time determined? If they’re not sold, how do you transfer your balance to another brokerage? Does a normal ACAT work?

  9. somewheresouth says:

    As a Madoff investor, let me address the reality of SIPC coverage, not the misleading hype: SIPC will only cover the amount of money you invested–they will not provide a dime toward any gains you had should your firm collapse. Ergo, if you invested 100k in ETF x and that ETF appreciated to 200k, you will receive your 100k initial investment and not a dime more, unless the trustee happens to collect a major portion of the stolen/collapsed funds (not likely). Caveat: SIPC is nearly broke, so without Congressional funding or a major infusion of cash from brokerages, they may be unable to pay any claims. Also, as far as I know, there are no prompt payment provisions; many Madoff investors will be waiting for a SIPC payment for years (and SIPC payments come with the statement that they can be reclaimed at any time on the order of a court). Good luck,


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